Why Your Neighbors Are Tapping Their Home Equity

You've accumulated a decent amount of equity in your home. Why not put your equity to use with a home equity loan or a home equity line of credit (HELOC)?

Both allow you to borrow against the equity in your home. A home equity loan is a lump sum option with a fixed interest rate and payment schedule, while a HELOC allows you to draw funds as needed (similar to a credit card).

If you did tap your home equity, what would you do with the funds? Probably make home improvements or repairs, according to a recent Bankrate.com survey. Almost three-quarters of homeowners considered those good reasons to borrow from your home equity. Other popular reasons included debt consolidation (44%), covering educational costs (31%), paying regular household bills (15%), and making investments (12%).

It's a sign of trouble when you're using a loan to pay regular expenses. According to the survey, lower-income respondents (less than $30,000 annually) were almost two times as likely as those earning $50,000-$74,999 to consider it acceptable to use home equity loans for daily expenses. Compared to the highest-earning households, lower-income households were three times as likely to consider home equity debt acceptable for daily expenses.

You can do anything you want with home equity loans or HELOCs, since the value of your home serves as collateral – and as a result, some survey respondents chose some relatively frivolous reasons for drawing off home equity.

Nine percent of respondents thought big-ticket purchases like furniture or appliances would be suitable uses for home equity borrowing. Another 3% would fund a vacation with them, while 1% would use home equity funds for a boat purchase. A small fraction (less than 1%) would even use home equity funds for plastic surgery!

Thanks to 2017's Tax Cuts and Jobs Act (TCJA), you can no longer deduct interest on home equity debt – unless, according to the IRS, the funds are used to "buy, build, or substantially improve the taxpayer's home." In addition, the loan must be secured by a qualified residence (your first or second home), the improvements must take place on the secured home, and the debt can't exceed the cost of the home.

If you're using the home equity debt to buy a second home, you must stay within the new limits of $750,000 of total home debt for the home equity debt to be deductible.

What constitutes a substantial improvement? That's not entirely clear, but generally, the improvement must provide assessable value to the home. Remodeling and room additions obviously qualify, as do value-added improvements like solar panel installations. Accessories to the home like new furniture, appliances, or artwork will not qualify.

For all the other uses in the survey, from debt consolidation to plastic surgery, home equity deductions are disallowed until 2026 per the TCJA.

There's plenty of home equity available in America – the median home value of survey respondents was a quarter of a million dollars while the median mortgage balance was $146,000. Over $6 trillion in collective equity is waiting to be tapped. Do you plan to tap into your contribution to the $6 trillion total?

Your home equity can be a useful source of funds – but remember that you're putting up your home as collateral. If you fail to pay, you can lose your home. Missing even one payment could hurt your credit score. You can check your credit score and read your credit report for free within minutes by joining MoneyTips. You probably shouldn't use home equity loans for things like a vacation, a boat, or plastic surgery – and if you have to use home equity to pay household bills, it's time to revisit your budget.

This article was written by MoneyTips from MoneyTips and was legally licensed through the NewsCred publisher network. Please direct all licensing questions to [email protected]